We are four shareholders of a professional S corporation in the United States. Each of us owns 25% of the corporation.

Each shareholder keeps track of his own billable hours, and the corporation bills the clients on a monthly basis. When a client pays for the work performed, the payment is credited to the particular shareholder who performed the work. Since all payments received by the firm are allocated to a particular shareholder, no money actually belongs to the firm as a whole.

Each shareholder is paid a salary, so long as that shareholder maintains a positive balance. A shareholder may, but is not required to, withdraw additional money at any time from his account, which is then run through payroll. A shareholder who has a negative balance is not allowed a salary.

The costs of running the corporation are split evenly (25% each) between the shareholders.

We have a situation in which two of the shareholders have generated a substantial amount of money - and have left that money in the corporation - while the other two have negative balances.

Our CPA has provided us with Form 1120 Schedule K-1s, which divide the firm's balance evenly between the four shareholders (Schedule K-1, Part 1, line 1). The balance actually belongs to the two profitable shareholders; the two shareholders with negative balances do not own any part of that money, and will not receive any part of it. However, based upon the K-1s issued, those two shareholders with negative balances would still have to pay taxes on their reported fourth of the balance.

Question 1: Was the CPA correct in simply dividing the balance equally, or should the CPA have prepared different K-1s showing how much of that balance actually belongs to each individual shareholder?

Question 2: If the balances are to be divided equally, is there someone else that the two shareholders with negative balances can account for their lack of share in the income?

Question 1: Was the CPA correct in simply dividing the balance equally, or should the CPA have prepared different K-1s showing how much of that balance actually belongs to each individual shareholder?==========>> as you can see, an S corp is not a MMLLC; The IRS requires shareholders who actively participate in the corp?s operations be paid a reasonable wage.if not they are no longer employees of the S corp. An S corp that does not pay a reasonable compensation to its shareholders/employees avoids payroll taxes. The payroll tax savings, of course, raises an issue with the IRS
income, losses, and other items, are passed-through an S corp to each of the 4 shareholders according to his/her percentage of ownership in the s corp. Unless you are just a passive investor but are active in running the S corp, then the IRS will consider you a reg W2 employee of the S corp. In that case, under IRS rules, you must receive at least some of your share of the corp?s profits in the form of a salary since the S corp is not a MMLLC, a partnership I mean. The same holds for any other shareholder-employees as well as for any corp officers regardless of whether they?re also shareholder. With small, closely-held businesses in particular, it?s common for the few shareholders to also run the business, so it?s important to be aware of the requirement to pay shareholder-employees a salary. Unlike distributions, shareholder-employee salaries are subject not only to the personal income tax but also to federal employment taxes.though It?s up to the people who run an S corp I mean its officers and directors, to decide how much salary to pay the corp?s employees, since An S corp shareholder performing more than minor services for the S corp will be its employee for tax purposes.

Question 2: If the balances are to be divided equally, is there someone else that the two shareholders with negative balances can account for their lack of share in the income?=======>As mentioned above; unlike MMLLC members, S corp shareholders don't pay self-employment aka seca taxes on their distribution from the corp. But S corp owners who work as employees must be paid a reasonable salary. So, it depends; s corp shareholder has neg income only when the s corp has neg income.